Major central bank rundown
Reserve Bank of Australia, Governor Phillip Lowe,0.10%,Meets 06 April
Holding the line
There were no surprises at the last RBA rate decision earlier this month. The Cash rate and the 3 year yield target were both was kept at 0.10%. The level of bond purchases was unchanged too and stays at $100 billion AUD. The RBA alsorecognised that the domestic economy was recovering more quickly than expected and most firms had begun loan repayments now. The RBA’s did outline their near term focus before considering raising rates. Firstly, they want to see gains in employment and a return to a tight labour market. Secondly, inflation needs to be in the 2-3% target range. Crucially, this is not expected to occur until 2024.
The unemployment level is projected to stay around 6% for 2021 and down to 5.5% at the end of 2022. CPI inflation is expected to rise temporarily due to some short term factors and GDP is anticipated to grow by 3.5% over 2021 & 2022.The RBA can say that rates won’t rise until 2024. However, if the market questions the credibility of the RBA expect strong AUD gains pricing in a rate hike. Remember the RBA will not want to be perceived to move ahead of the Federal Reserve. The RBA brought forward bond purchases in response to the rapidly rising bond yields. The RBA was prepared to do so again if necessary. So, similar to the ECB (see below), the pace of bond purchases can be accelerated to match rising yields. All in all no surprises and the AUD should remain supported ondeeper dips against the CHF and the JPY. No change expected from the RBA at the next meeting though recent Australian data has been encouraging, especially employment.
European Central Bank, President Christine Lagarde, -0.50%, Meets April 22
Pressured by slow vaccine roll out
At their last meeting this month the ECB kept interest rates unchanged as expected. They also kept the size of the bond purchases (PEPP) unchanged at €1.85 trillion. However, like the RBA,they expect the pace of the bond purchases to be at a faster rate during the first months of the year. The ECB agreed on a monthly PEPP purchase target lower than 100 billion euros, but higher than the 60 billion seen in February. A sources piece after the ECB decision stated that there were different opinions over whether the recent rise in yields needs to be unwound. Remember that by speeding up bond purchase that keeps the yield lower. So, the ECB is divided the same way the market is divided. Is the rise in yields a sign of an economic recovery or a threat to the economic recovery? The pick up in speed of bond purchases is seen as enough to halt any disorderly action in the bond market for now.For 2021 inflation was upgraded to 1.5% from 1.0%, but longer term inflation kept at 1.4% for 2023. So, a short term and temporary inflationary move higher is expected similar to what the RBA expect.
The ECB’s actionswere not particularly surprising. However, if the bond purchases accelerate to 100bln and, this is the crucial part, remain accelerated then that should have more negative impact on the EUR. There is around €1 trillion of the €1.85 PEPP package still to purchase, so the ECB has plenty of room to speed up (or slow down) bond purchases. The slowing down of PEPP purchases is also an option which Lagarde reminded the market of, so two way risks here. However with Germany recently extending their lockdown and the vaccine rollout dragging for Europe that would favour EURUSD sellers, especially with the FED being pretty indifferent to rising US10 year yields.
Bank of Canada, Governor Tiff Macklem, 0.25%, Meets April 21
Optimistic, but cautious over low paid employment.
Interest rates were unchanged on March 10 at 0.25% and bond purchases are to continue at the pace of $4billion per week. However, the Bank of Canada still doesn’t want to bring rate hikes forward and the Governing Council expects that economic slack will not be absorbed until into 2023. The economy is currently 1% higher then the BoC had anticipated and in terms of tone one of the most optimistic central banks. The BoC expect inflationto move above 2% towards 3% temporarily over the coming months. This inflation is expected to be driven by the prices of numerous goods and services that fell sharply during the pandemic and rising oil prices. Another central bank seeing inflation higher, at least temporarily,
One of the major concerns of the BoC rate meeting was over job losses. These are concentrated among low age workers, young people and women. This theme was picked upon by Deputy Governor Schembri the day after the rate meeting who said that the labour market remains a long way from a full recovery. You can read his statement here.
The housing market has seen strength in Canada. This is due to low interest rates encouraging house purchases. People are also seeking more space in lockdowns. GDP grew by +9.6% in Q4 2020 led by strong inventory accumulation. GDP growth in Q1 2021 is now expected to be positive
Personal savings are up, like much of the developed world. However, the BoC are unsure exactly how these savings will be spent in the future. There is obviously a more cautions tone around, so people will be slower to spend savings. The things most people seem to be doing with their savings now in Canada according to the BoC is: putting it in the bank as deposits (personal deposits up by $150 billion), paying off debt, buying houses (fuelling the strong housing market), and buying financial assets and retirement plans. What happens with the excess savings is important as it is enough to impact the direction of the Canadian economy. So this is why the BoC asked respondents what people would do with their savings. 5% plan to spend it all in 2021 and 14% plan on spending some. This survey was conducted in November. See here. The BoC are working on a boost per capita to consumption of $500, but if the outlook around COVID-19 rapidly improves then more of those savings will come on line. You would expect people to be more cautious in November than now.
The BoC are optimistic, but recognise risks. Oil prices are supportive and the economy is not expected to shrink now for Q1. For now expect CAD buyers on dips. Note the strong employment data on March 12 as Canadian employers get going again. Also, notice how there was a good pick up in jobs amongst the BoC’s target group of low wage workers. This will have reassured the BoC. The next move from the BoC will be mentioning tapering of bond purchases. This in fact happened shortly after typing that last sentence and the BoC announced the discontinuation of market functioning programs for COVID on Tuesday. This opens up the path for bond tapering.As long as there are no further negative surprises, and if oil stays broadly supported CAD strength against the EUR would be worth considering.
Remember that stronger oil supports the CAD as around 17% of all Canadian exports are oil related. There is negative correlation between USD/CAD and oil has broken down recently. Canada’s top export is Crude Petroleum at over $66 billion and around 15.5% of Canada’s total exports.
Federal Reserve, Chair: Jerome Powell, 0.125%. Meets April 28
Federal Reserve holds to the script of ‘no rate rises until 2024’
The rate was unchanged 0.25% and QE was unchanged at $120 billion per month. The headline was that the median dot plot saw ‘no interest rate rises until 2024’. However, the dot plot changed slightly with more board members now seeing sooner interest rate rises. Although the continued rise higher in yields post FOMC is showing the market is focused on sooner than expected rate hikes for now.
However, the Fed does see improved growth prospects. Some upward projections for growth and inflation and reductions in unemployment expected. The main message from Powell was that ‘the very worst economic outcomes had been avoided’.GDP for 2021 was revised higher to 6.5% from 4.2%. Unemployment for 2021 was revised lower to 4.5% from 5.0% and Inflation revised up to 2.4% from 1.8% (to reflect expectations of transitory inflation like the RBA, the BOC and the ECB).
In summary the Federal Reserve stuck to the dovish script. Still no rates expected until 2024. That’s what the Fed think. However, the market was not so convinced. Eurodollar futures see a rate hike on March 2023 and three rate hikes for that year. See Justin’s post here the morning after the FOMC. So the question is, ‘has the market misunderstood how dovish the Fed is going to be?’. Or has the ‘Fed got behind the market?’. All in all the shift in the dot plot tells you that if economic conditions continue to improve then the Fed will raise rates sooner than 2024. This has resulted in some USD strength post the FOMC and subject to any new developments it is reasonable to expect some USD strength into the next meeting from here. Check out some of Adam’s points for USD strength. The USD strength this week was mainly on risk off flows, so that was why the US was rising despite the US 10 year yields falling
Part 2 to follow …